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Survival of small firms

Despite the benefits of operating on a large scale, independent and
non-subsidiary small and medium sized firms (SMEs) still survive, and
indeed make up the vast majority of firms.

According to the
EU definition, medium-sized firms are those which employ
fewer than 250 employees, small-sized employ fewer than 50, and
micro-sized fewer than 10. Most countries employ similar
definitions for SMEs.

In the EU, USA, and UK, as with all economies that provide data, around 99%
of all firms are 'small' or 'micro'. Some
20 million SMEs operate in the EU
and
30 million in the USA. In the EU, SME's employ around 65% of all
private sector jobs, and generate around 70% of new 'net' jobs, as well
as being a source of innovation and new products.

Why do small firms survive?

There are several reasons why small firms survive, including:

In terms of the theory of
market structures, despite their dominance in terms of assets, employment and turnover, only around 1% of firms are
oligopolies, duopolies or
monopolies. In many industries,
firms are either monopolistically competitive or operate in conditions
which approximate to perfect competition.
The key here is that these types of markets have very low
barriers to entry, meaning
that, at any one time, large numbers of firms exist with each having
a low market share - hence the size of each individual business is
likely to be 'small' relative to the total market size.

New technology, and the rise of the internet, has reduced
start-up costs and other barriers to entry, as well as increase
barriers to exit, making markets more
contestable. Given so, the
use of hit-and-run strategies enable some entrepreneurs to establish
firms just for the purpose of making short-term (or head-start)
profits. They then leave the market once profits fall as new firms
enter. It is likely, therefore, that these firms remain relatively
small compared with long-established firms.

More generally, there may be no opportunity for firms to benefit from significant
economies of scale.
This tends to be true for most service sector firms, where labour is the
dominant factor of production, and technology cannot be effectively employed.

Small firms are often relatively easy to establish, and generally do not
require complex rules and procedures to set them up.

Profit maximisation may not be the driving force for all businesses,
such as not-for-profit organisations. Hence, remaining small does not
conflict with the profit maximisation objective.

Where monopsony power dominates (as
with some transnational companies), the potential for small
suppliers to grow is limited given that powerful buyers can push
down the prices of suppliers. This limits the revenue and profits
attainable, and hence prevents
organic growth.
This many help explain why small suppliers to large supermarket
chains and other large retailers may operate at or just below
normal profit, hence scope for expansion
is limited.

Some markets may have limited potential for growth, including
niche
markets which provide specialist or customised services.

Along with this is the rise of micro-marketing, where small
groups of potential customers are actively targeted with advertising
based on their existing or predicted buying activities. The use of
web tracking cookies makes it easier for small firms to exploit website
and search engine visitors to find out about their shopping habits, and
target them through their website or through emails.

This has given rise to the concept of the long tail where new
technology, low barriers to entry, and micro-marketing helps sustain a
very large number of small firms - even in markets dominated by a few
large firms.

Government assistance and
state aid in the form of subsidies, grants, tax incentives and relief, and guarantees also enable some small firms to survive.

Diseconomies of scale may set-in early for certain types of
firm, especially those in the service sector, where
significant problems can be experienced as they grow, including difficulties
with communication, financing, and employing and training labour.

Globally, subsistence farming (which is not technically a businesses
activity) and
semi-subsistence
farming (where farms sell up to 50% of their products) is widespread and
accounts for significant employment.

The rise of microfinance has also enable small firms to
be established
in many less developed parts of the world.